What is Yield to Maturity (YTM)?

In the previous article In simple terms, yield is the potential profit an investor receives after supporting the profit factor of the instrument’s price when trading and the coupon rate that an investor can receive.

In addition to the rewards in the following article The authors cover the same but more advanced concepts: Yield to Maturity (YTM) and its effect on bonds. Check out his comments below:

Definition of Yield to Maturity (YTM)

Yield to maturity (YTM) is the potential return on a bond if held to maturity. These bonds can be purchased from investors (in the secondary market) or directly from the issuer (in the primary market).

Like normal or current yields, YTM is also obtained by dividing the cash incoming from a bond and dividing it by the bond’s market price to determine how much profit an investor would earn if he owned the investment instrument. In a single year. YTM is also expressed as a percentage.

The only difference is that YTM calculates the value of potential future profits using the present value method. This means that YTM is trying to calculate. “What is the value of future profit when disbursed at present value?” So Jason Fernando of Page. Investopedia Specifies that the YTM concept is the same as the concept. Internal Rate of Return (IRR) used to invest in bonds

Rumus formula yield matures.

The Yield to Maturity formula is YTM= [(Kupon tahunan) + {(FV-Harga)/Maturity}] / [(FV+Harga)/2].

information:

• Annual coupon = Annual coupon set by the bond issuer.
• FV = the face value or price of the bond when it was first issued.
• price = current price of the bond
• Due date = Due date or time remaining between the current purchase of the instrument and the due date.

note:

This formula applies to the premise that:

1. The coupon received by the investor is equal to the return received at the moment. Please note that the present value of return may not always be the same. It depends on the coupon value and the bond price at that time.
2. The coupon will be reinvested by the investor. (no disbursement)
3. Investors do not intend to sell their bonds to others in the secondary market.

Example of calculating the return to maturity

For example, you purchase Bond A on January 1, 2022 for $1,550,000, the bond was first issued on January 1, 2021, and will mature on January 1, 2024. The instrument is 1,000,000 Indonesian Rupiahs. And the coupon is worth 6% per year. So what is the value of YTM?

YTM = [6% + {(1.550.000-1.000.000)/2}] / [(1.000.000+1.550.000)/2]

YTM = (60,000 + (1,550,000 – 1,000,000) : 2) : (1,550,000 + 1,000,000) : 2)

= 335,000:1,275,000

= 0.26274 or 26%

Although it looks quite simple. But in essence calculating YTM is quite difficult. This is because discount factors such as inflation and interest rates can affect the value of a currency for many years. to solve this problem Investors are encouraged to use a financial calculator or spreadsheet application.

Investors also need to understand the types of bonds to buy. Because bonds don’t pay coupons every year. Therefore, there are bonds that do not pay coupons at all (Zero coupon bond) Bonds that the issuer can buy back before maturity (callable bond) and other types This difference also makes the YTM calculations for each bond different.

How to calculate return due in spreadsheets

as stated above YTM should not be calculated manually, but rather using a calculator or spreadsheet application. Here’s how to calculate YTM using Google Spreadsheets:

1. Prepare bond information in advance. It starts with the price and the date you bought it. Annual Coupon Value and the price when it was first offered.
2. Enter the YIELDMAT formula into the cell.
3. Fill out the following information
   • Settlement: Purchase date
   • Due: Due Date
   • Issue: Date of first bond issue
   • Price: purchase price
   • Rates: The amount of coupons offered by bonds is in a nominal form. (not percentage)

4. Click in and see the results.

Product maturity and interpretation

1. To check whether the investment is good or not

In YTM calculations, there are at least 3 calculation components: coupon, bond price, and maturity date. With this formula, investors can determine a good bond investment threshold for them.

For example, over a 10-year period, they want to receive a bond of value x with coupon Y so that the calculated YTM value of this investment is positive. As stated above, the YTM concept is the same as the IRR concept, where a good IRR is higher than 0. The higher the IRR or YTM, the better the investment.

2. To compare one bond with another

There are currently tens or hundreds of bond products offered with different requirements regardless of whether the bonds are issued by the government or the private sector, so you can take the YTM value of these bonds into account. which bonds meet your needs

For example, there are Bonds A, B, and C priced at IDR 1,000,000, IDR 1,500,000, and IDR 2,000,000 respectively. Bond A offers a 7% annual coupon for 10 years, Bond B offers a 6% coupon for a 5-year term, and Bond C offers a coupon. 5% for a 3-year term. All bonds are included in The bond that cannot be called and offer fixed rate coupon.

If you seek profit Of course, you would choose Bond A. However, with a high-risk return over a 10-year period, there is certainly a lot of economic uncertainty that can affect the price of the instrument. So, you calculate the YTM as follows:

From the results of the above calculations It is true that bonds A are considered more profitable than bonds B and C, so you can choose a solid investment tool. This would certainly be different if the above three bonds offered different coupon rates or time periods.

Difference between maturity yield and coupon rate

Although they are both profit ratios, YTM and coupons are two different things. The difference lies in the nature of the two variables. In this case, YTM is an approximation. while the coupon rate is fixed.

The coupon issuer generally announces the coupon amount when the bond is issued. Although there are flexible coupons. (according to the movement reference interest rate), but most bond coupons have been fixed.

On the other hand, the maturity rate of return is the potential profit that an investor will receive until the end of the investment period after considering the coupon and the price of the instrument in the secondary market. Because it takes into account profits for the next few years, considering bond prices for the next few years, which are also uncertain, YTM is an estimate (sometimes wrong, sometimes correct).

That’s the discussion of yield on maturity (YTM) and how important this variable is in the world of bond investing. But you have to remember You must consider factors other than YTM before purchasing this tool. Because in the end, YTM does not include incalculable factors such as issuer business opportunities. the financial status of the card issuer Possible recessions, etc. Good luck.